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Your company's inventory turnover can tell you a lot about your finances. The amount of inventory you have to retain on hand can affect how much available cash you have for endeavors such as paying your operating expenses and your payroll. This can have a direct effect on the amount of money you have to borrow to stay above water on a month-to-month basis. You can use your inventory turnover rate to help determine just how much of a credit line you need.

Turnover

The first step in using your inventory turnover to determine your credit line is to calculate the ratio of your inventory turnover. This ratio is calculated by dividing the cost of goods sold in a given period of time by the average dollar amount of inventory you have in stock during that period. The higher the ratio, the better. A high ratio indicates a high turnover rate, meaning that you do not keep surplus inventory on hand regularly.

Importance

The importance of this ratio is that it provides you with a strong indication of how much money you have tied up in excess inventory during the period of time in question. If you have a low ratio, you may find that you need to borrow money to make payroll or pay other expenses. The inventory ratio will give you a general indication of whether you will need more or less in borrowed funds. Calculate this ratio at least once per month to stay on top of your need for credit.

Debt

Determining your debt-to-inventory ratio can also help you determine the amount you can and should borrow to meet your operating expense needs. If you have a high current debt-to-inventory ratio, the amount of money you may be able to borrow could be relatively low. A low debt to inventory ratio may indicate the potential for more available funds, but may also indicate that you typically don't have to borrow funds for expense purposes. Keep a close watch on how much debt you normally use for operating expenses. This will help you determine the credit line you need.

Expenses

Once you have a comprehensive picture of your inventory and your typical debt ratio, you can then examine your typical expenses to determine how much you need to borrow for the given accounting period. Borrowing the maximum amount allowable is not always the best course of action. Instead, borrow the amount you need to cover the bills, but try to limit it to this amount. Use your inventory turnover ratio as a gauge to determine how often you will need to borrow, and try to pay back your loans as if they were short-term loans, rather becoming accustomed to carrying a large amount of debt.

About the Author

Jared Lewis is a professor of history, philosophy and the humanities. He has taught various courses in these fields since 2001. A former licensed financial adviser, he now works as a writer and has published numerous articles on education and business. He holds a bachelor's degree in history, a master's degree in theology and has completed doctoral work in American history.

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Lewis, Jared. "How to Determine a Credit Line With Inventory Turnover." Small Business - Chron.com, http://smallbusiness.chron.com/determine-credit-line-inventory-turnover-36310.html. Accessed 15 September 2019.

Lewis, Jared. (n.d.). How to Determine a Credit Line With Inventory Turnover. Small Business - Chron.com. Retrieved from http://smallbusiness.chron.com/determine-credit-line-inventory-turnover-36310.html

Lewis, Jared. "How to Determine a Credit Line With Inventory Turnover" accessed September 15, 2019. http://smallbusiness.chron.com/determine-credit-line-inventory-turnover-36310.html

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